Why You Should Stop Buying Index Funds Now, Explains BNP Paribas

As assets that long walked in lockstep are set to move to a different drum, BNP Paribas said last week that it’s time to buy actively managed funds, instead of index funds.

Mirza Baig, head of foreign-exchange and rates strategy for Asia at BNP Paribas noted that actively managed funds, which have higher expenses, underperformed funds that passively track indexes were a result of assets being driven by a single driver – central bank policy stimulus, over the past few years.

“All you had to do was basically buy something and sit on it,” he noted, but added that now, that correlation was breaking down.

As an example, he pointed to commodity prices historically usually fall as the dollar rises and vice versa and the long-running negative correlation between the dollar and commodity prices. Oil prices have moved higher even as the U.S. dollar has jumped over the past few weeks, he noted.

That’s a signal that assets globally are ceasing to move in tandem, Baig said.

“Everything is going to have its own story,” he said. “We’re not going to see perfect correlation between bond rates, equity and credit markets. We’re likely to see much more idiosyncratic movements in specific asset classes.”

He pointed to several reasons for the paradigm shift.

“The Chinese economy is now on a firmer footing because they are pumping the economy with fiscal stimulus. The Chinese are also shutting down the excess capacity in some of these sectors that were overcapacity, so steel and coal in particular,” he noted. “In the oil space, the oil producers seem to have banded together to produce somewhat of a supply shortage as well to push up oil prices, so some of these supply side dynamics have changed.”

The demand picture has been changed by a stable Chinese economy and a stronger U.S. recovery, he noted.

He said that a positive for active managers is the shift toward more volatility and less correlation in markets.

“When you have uncorrelated activity across asset classes it’s the actively managed funds that are likely to do better and this is great news for the hedge fund industry,” he said.

As shorting the Singapore dollar against a long play on Indonesia’s rupiah, Baig tipped a top play on the new paradigm.

“The Singapore dollar is a basket, which is tied to the yen, the renminbi and the dollar, whereas Indonesia is a very commodity intensive economy,” he noted. “If commodity prices are stable or stronger, then essentially that supports the Indonesian economy. The Singapore dollar is tied much more to the basket and therefore will continue to weaken.”

That’s a six-to-12 month, trade, he said.

He said that on a similar view, BNP Paribas also liked being short the euro and long Brazil.

“Brazil is a high-yielding commodity producing economy whereas euro is inherently about anti-dollar, the reverse of the dollar trend,” he said, forecasting the euro would fall to parity against the greenback by the end of next year.